Playing TAPS: Annual dispute turns political
A state tax assessment board concluded four days of contentious hearings May 15 on valuation of the Trans-Alaska Pipeline System for state and local property taxes. A decision by the board is expected any day, but the value chosen almost surely will be appealed to the courts.
The tax assessment fight over the 800-mile pipeline is an annual event when the state sets a value for TAPS. Under Alaska law, the state’s value must be used by municipalities along the pipeline route for their own property taxes on the pipeline.
The municipalities involved, the City of Valdez, the Fairbanks North Star Borough and the North Slope Borough, must certify their tax rolls by June 1 and mail notices to taxpayers.
The oil and gas property tax on oil transportation and production facilities is the state’s only property tax.
Each year the state Department of Revenue sets the tax value for TAPS, and set it at $5.7 billion for 2014. The three municipalities, who are working together, claim the pipeline is worth $13.7 billion. TAPS owners, mainly the large North Slope producers, meanwhile have their own estimate of $2.7 billion.
The municipalities want a high figure because that maximizes their tax revenue. TAPS owners want the number low because it minimizes the tax they pay.
In its hearings, the State Assessment Review Board listened to presentations by all three parties, the pipeline owners, the municipalities and the Department of Revenue, and must pick a number within these ranges. No matter what the board decides, one or the other of the disputing parties will appeal to the courts, as they have almost every other year.
Big dollars are at stake. If the tax value is $13.7 billion, as the municipalities argue, the pipeline owners would pay $274 million in tax. If the TAPS owners’ view prevails, the bill is $54 million. If the state revenue department’s $5.7 billion number is used, the tax is $114 million.
This year the dispute has become a political cause célèbre and has played into election-year politics. Gov. Sean Parnell is being criticized for firing one member of the tax review board who arguably leaned toward the municipalities’ views in past decisions. To replace him Parnell appointed a former oil industry executive who might favor TAPS owners’ arguments, critics argued.
Parnell is also being criticized for deciding last year to allow the pipeline owners to make estimated tax payments for 2013 that are below the state assessment review board value for that year. The companies should have paid $113 million based on the state assessment board’s determination but Parnell chose to let them pay only $66 million.
Although that decision was made a year ago, Alaska Revenue Commissioner Angela Rodell said she supports it because the courts will make the ultimate decision on the pipeline value. Such “tax in abeyance” agreements are common where there is a dispute.
“Both sides recognize there is an obligation. It is just set aside until the dispute is resolved,” she said.
If the value estimated by the appeals board is upheld, the industry taxpayers will pay the difference plus interest, which is 11 percent compounded quarterly, she said.
There’s uncertainty about this, however. The value could also be lowered by the courts and the state wants to avoid a situation of having to refund taxpayers at 11 percent compounded quarterly, Rodell said. In this case there may be a good chance of that happening because the value set by the review board for 2013 was high relative to the values accepted by recent state Superior and Supreme court decisions on the issue.
Both matters have become political footballs, however. Parnell is running for reelection this year and is opposed by Bill Walker, lead attorney for the City of Valdez, which is deeply engaged in the TAPS value dispute.
No matter what figure the assessment board picks for 2014, the dispute will be appealed to state Superior Court and, ultimately, the state Supreme Court.
In February, the state Supreme Court rendered its first decision on a TAPS tax dispute, for 2006. The high court is still looking at years 2007 through 2009. Subsequent tax years are still in state Superior Court, on their way to the Supreme Court.
“You’d think that after a decade of litigation and Superior Court decisions and now a Supreme Court decision we’d have more certainty, not less,” said Jim Greeley, the state’s chief property tax assessor.
Meanwhile, why the huge differences in the estimates? Property tax assessors use several methods to set values, Greeley said. The most common method used is market value, based on actual sales, as in real estate. This is the approach municipal appraisers typically use with residential and commercial property.
But there is no other 800-mile Alaska pipeline on the market, so other methods are used, Greeley said. For TAPS, the disputing parties have agreed to use an estimate of pipeline replacement, or what it could cost to build TAPS anew, with an allowance for depreciation.
To arrive at their replacement estimate, the municipalities hired a consulting firm, Pro Plus Inc. TAPS owners hired another firm, Stantec. Not surprisingly, the firms rendered estimates supporting their clients’ opposite positions of $13.7 billion and $2.7 billion, respectively.
Greely said he based the state’s valuation on a TAPS replacement estimate from 2006 that has now been approved in the Supreme Court’s February decision, but indexed to 2014 using the Marshall & Swift Petroleum Index, a widely-used industry cost index.
“We based our estimate in what the court has approved,” Greeley said. “The other two (owners and municipalities) started from scratch.”
Estimating a replacement cost is more complicated that it would seem. If they agree on little else, the disputing parties do agree that a brand-new TAPS would be built a lot differently than it was in the mid-1970s.
It would take advantage of new technologies in pipe welding, for example, and it would certainly be built at a smaller scale, to accommodate lower volumes of oil.
Stantec and Pro Plus arrived at sharply different conclusions as to what a modern version of TAPS might look like, but one big factor in dispute was a construction cost contingency factor in the Pro Plus estimate that was much larger than the Stantec contingency.
That factor alone, which is a subjective estimate, added a several billion dollars to the Pro Plus valuation, industry officials, speaking on background, said.
The parties are also miles apart on what depreciation to apply once a valuation is determined. The municipalities want a “straight-line” depreciation beginning in 1977, when TAPS started, that stretches to an end-of-life estimate for the pipeline in 2067. That approach creates gradual slope supporting the claim of a $13.7 billion value in 2014.
TAPS owners use a different approach loosely based on “units of production value” which corresponds roughly to throughput. TAPS throughput was steady at 2 million barrels per day through the 1980s but has now declined to about 520,000 barrels per day.
North Slope production began dropping in 1989 and has dropped at a long-term average of 6 percent per year. That approach creates a steeper depreciation slope, which reinforces the TAPS owners’ $2.7 billion estimate of 2014 value.
The state Revenue Department, in its estimate for 2014, basically used the units of production value approach but started from a higher replacement cost and thus arrived at a higher value of $5.7 billion.
A key point in the depreciation dispute, however, is the municipalities’ view that TAPS will operate until 2067, verses a 2047 end-of-life assumption used by pipeline owners and the state.
Greeley said he uses 2047 because the date, and the assumptions behind it, link to Superior Court decisions that are now affirmed by the Supreme Court.
The key assumptions in the court decisions to date is that TAPS can operate down to 100,000 barrels per day and that this limit would be reached in 2047. The date is based on long-term estimates of production from the North Slope that are developed each year by the state Revenue and Natural Resources departments.
The state’s estimates rely on assumptions of reserves that can be produced that are “proven” under standard industry-accepted definitions of the term, mainly that of the Society of Petroleum Engineers, that they are economically, technically and legally capable of bring produced.
State statutes require proven reserves to be used in the Revenue Department’s long-range forecasts.
The municipalities, however, argue that a different approach might be justified in this case. Relying on only proven reserves is appropriate if the estimate used for forecasting state revenues, in which case being conservative is proper, the municipalities argue.
However, there are also “probable” reserves, they said, and even oil that will likely be produced from discoveries that are now unknown, or oil that is known but of a type that cannot now be technically produced, like heavy oil.
History has shown that over time industry finds ways to produce resources that are now ranked as probable or technically challenged, and that some factor for these resources should be considered.
In her decision, Superior Court Judge Sharon Gleason seemed to agree with this, which is why the municipalities now assert a larger number for oil resources.
However, whether TAPS can economically operate at 100,000 barrels per day is highly problematic. It might be operated mechanically at that volume but whether the costs can be borne is another matter.
The pipeline now carries about 500,000 barrels per day but Alyeska Pipeline Service Co., the pipeline operator, has said only that TAPS could technically be operated down to about 300,000 barrels per day, but then only with certain modifications.
Whether it can economically operate is another question. The modifications needed will require additional investment, which means the per-barrel transportation cost will go up. Also, the pipeline’s fixed costs, spread across fewer barrels, will result in a higher per-barrel cost.
Operating at less than 300,000 barrels per day might be possible if there were radical changes in the way TAPS operates, such as a “batching” operation where the pipeline would shut down periodically with oil stored at Prudhoe Bay, and then shipped in batches down the pipeline as it is restarted at intervals.
Whether this mode of operation is technically, much less economically, possible is uncertain, Alyeska has said.